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Could Your Savings be Reducing Your Mortgage Cost?

If you have a mortgage and some savings in the bank, you could save money on your mortgage costs by offsetting your savings against your outstanding mortgage balance. With most lenders, you get the choice of either reducing your monthly repayments in line with the offsetting amount, or using offsetting to repay your mortgage quicker.

Although any savings you have won't earn interest, they will cancel out the interest that is being charged on your mortgage balance. You can consider this to mean that your savings are earning interest at the same rate your mortgage interest is charged at. Since interest rates on borrowing are almost always higher than those on saving, you can make your money work harder for you by offsetting.

Different Ways of Offsetting

There are two main types of mortgage, capital repayment and interest only. With a capital repayment mortgage, your monthly repayments cover the interest charged on your balance plus a little extra to reduce the amount that you owe. The monthly repayment is calculated so that you repay the whole balance (including any interest) at the end of the mortgage term, typically 25 years. In an interest only mortgage, each month you only pay off the interest that was accrued that month, the remaining balance is not reduced. Your monthly payments will be lower than with a capital repayment mortgage, but at the end of the mortgage you will also need to repay the whole amount of the loan in a lump sum.

Depending on the type of mortgage you have, you will have different options if you choose to offset:

Repay Your Mortgage Quicker

If you have a capital repayment mortgage, you might be able to pay off your mortgage quicker by offsetting your savings. With this approach, you keep your monthly repayments the same as they would be without offsetting, but your lender reduces the amount of interest charged on your mortgage by the amount of interest your savings can cancel out. Because you are repaying more each month than the normal repayment + interest, the outstanding balance of your mortgage goes down quicker than it normally would. And this has a cumulative effect, as next month you don't owe as much as you normally would - so the amount of interest charged by your lender is lower again the following month. It is similar to making an overpayment on your mortgage, but with no overpayment charges and your savings are accessible if you need them in an emergency.

Lower Your Remaining Balance

If you have an interest only mortgage, you might have the option of reducing the amount of capital repayable at the end of the mortgage term by offsetting your savings. Your lender will calculate interest on your mortgage balance with your savings subtracted, so the interest charged each month will be lower than if you did not offset. However, you still make monthly payments at the original rate, as though you had not offset. Because you are paying more each month than the interest you are being charged, the balance of your mortgage will be reduced. The following month the lender makes the same calculation, but this time your mortgage balance is lower than before, so the interest charged is even lower. Again, you overpay and further reduce the amount you owe. You can keep access to your savings but significantly reduce the amount you have to repay at the end of the mortgage term.

Reduce Your Monthly Payments

With either a capital repayment or interest only mortgage, you can use your savings to reduce the amount you pay each month. You won't repay your mortgage any quicker, or reduce the capital repayment to be made at the end, but you will make savings by paying less each month. Your lender will reduce the amount of interest charged on your outstanding mortgage balance by the amount of interest your savings would earn at that rate and automatically lower your monthly payment. Since you're paying less each month, you might be able to add more to your savings each month, compounding the effect.

Repay With Your Savings

If you keep adding to your savings each month, not only will the effects of offsetting be more and more significant, but eventually you might have enough savings to repay the whole balance of your mortgage. If you do get to this point, it is important to check with your lender to see if they have any early repayment charges that would actually cost you money.

If you do get to this point, another valuable thing to consider is what to do with any further savings. Most lenders will not let your savings earn money above the balance of your mortgage if you are offsetting them against that balance - therefore as long as your savings are sufficient to cancel out any mortgage, any other savings would be better invested elsewhere.

Things to Consider

If you are interested in offsetting your savings against your mortgage balance, you can try out our offset mortgage calculator. However, there are some things you should consider before signing up to an offset mortgage. Lenders often charge application fees or completion fees for mortgages, which might mean that switching to an offset mortgage could cost you money. Also, offset mortgages often come with an interest rate which is higher than that charged by normal mortgages - so if your savings balance starts quite low, you could end up paying more each month on your mortgage, at least initially. Check the details of a quote from a lender and make sure you are happy with everything before deciding to go ahead.

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Disclaimer

The information and calculators / tools on this website are for illustrative purposes only. No guarantee is given or implied for the accuracy of information provided or of the calculations performed. Some lenders may charge additional fees for taking out loans or on completion of the loan term - these are not included in any of the LoanTutor tools.

Consult a qualified professional financial advisor before making any financial decisions.